Analysis-Bludgeoned bond markets hope peak inflation will bring revival in 2023

By Dhara Ranasinghe, Davide Barbuscia and Yoruk Bahceli

(Reuters) – Many of the world’s biggest bond fund managers, from BlackRock to Vanguard, are optimistic that sovereign debt markets have turned a corner after a 2022 rout with peak inflation and rates of interest in the end appears.

Prices of US 30-year Treasuries have gained more than 10% over the past month, while UK-based fixed income funds saw inflows of 1.09 billion pounds ($1.33 billion) in November, the highest in two years, according to in the fund network Calastone.

After a year that saw the bond market’s worst return since its No. 1 enemy – inflation – surged, optimism returned. Signs that inflationary pressures are easing mean that central banks may hold off on aggressive rate hikes.

“It’s too early to call an end to the potential pressure on interest rates but the extreme volatility is over and … the Fed’s financial system implosion is over,” said Rick Rieder, chief executive officer. of BlackRock’s global fixed income investment, managing $8 trillion worth of assets.

The expected half-point rate hike by the Federal Reserve on Wednesday, will take its policy rate to 4.25%-4.50%, from near zero in March, the fastest increase since Fed Chair Paul Volcker wrestled with worst inflation flare-up in four decades.

BlackRock finds short-term government bonds attractive; Europe’s biggest fund manager, Amundi, says “bonds are back” in 2023.

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Bad year for bond returns


Aggressive tightening of inflation controls, exacerbated by the war in Ukraine, triggered a paradigm shift for bonds, ending more than a decade of good inflation and low borrowing costs.

Deutsche Bank calls 2022 the first global bond bear market in 70 years.

As bond prices tumbled, US, German and British 10-year bond yields jumped nearly 200 basis points each in the biggest annual surge since 1994, putting the debt market under pressure.

“It is difficult to sell an understanding that the market is not working well. The future is the most common tool for hedging but there is a time when it does not work,” said Tomohiro Mikajiri, the head of yen and non-yen income from Barclays. trading, Japan.

Europe ends experiment with negative yields

In Europe, negative rates, where investors effectively pay an issuer if they hold their debt to maturity, are history. A year ago 6 trillion euros worth of euro area debt, or 67% of the market, had sub-zero yields.

Japan, which has stuck to an ultra-loose policy, remains the only major bond market with a negative yield.

“The big blow of negative yields has mostly gone, so (it’s) not the historic bond market we saw at the beginning of the 1980s, but very attractive yields compared to the last time,” he said. Andrew Balls, chief investment officer for fixed income at PIMCO, which manages $1.69 trillion.

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As bond yields firm to higher levels, many investors are increasing their exposure.

Jeffrey Sherman, Deputy CIO of DoubleLine, which manages nearly $100 billion in assets, said his portfolio combines exposure to high-quality credit and Treasuries.

Vanguard CIO Greg Davis said the “bright spot” is that investors are getting paid for holding bonds now.

“We’re in an environment where you’re getting yields back to something more normal versus artificially depressed,” he said.

Some favor corporate bonds, especially investment-grade companies with short-term debt yields now above 5%, considering them safer to invest compared to earlier this year while one recession.

Amundi group CIO Vincent Mortier said the fund manager is overweight government bonds and investment grade credit.

Amundi, which manages 1.9 trillion euros in assets, expects a change to the 60/40 stock-bond investment portfolio, after what some consider the worst performance in a century as prices of bonds and equity are rising. Diversification has been an important part of investing for decades.

Between a rock and a hard place


But with bonds failing to deliver in 2022, caution remains. The massive supply of debt is such that central banks are reducing trillions of dollars in bonds held on their balance sheets, meaning headwinds will remain.

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Estimates for European bond sales after accounting for central bank purchases in 2023 are as high as over 500 billion euros.

“Depending on the scenario you look at it could mean a doubling of the amount that private investors have to absorb compared to previous years,” said Union Investment’s chief economist Joerg Zeuner.

Investors have also shown a willingness to punish governments they perceive to be fiscally unsound as demonstrated by the recent collapse of British bonds.

Hedge fund managers attending a recent private UBS conference said now is not the time to buy long-term debt, according to a video of the conference seen by Reuters.

Finally, look at inflation, which took most of the surprise and could prove sticky, fund managers said.

“There are positive signs (on inflation), but I don’t think there’s any time for complacency,” said Jim Leaviss, CIO Public Fixed Income at M&G Investments.

Bond breakdown

(Reporting by Dhara Ranasinghe in London, Davide Barbuscia in New York, Yoruk Bahceli in Amsterdam, additional reporting by Nell Mackenzie in London and Junko Fujita in Tokyo, graphics by Sumanta Sen and Kripa Jayaram, Editing by Tomasz Janowski)


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